China’s key development targets are largely unchanged in 2018 Government Work Report. Noticeably, however, the budget deficit ratio is lowered by 0.4ppt to 2.6% for 2018. While the general public budget deficit ratio is lowered, the deficit ratio covering all government accounts is largely stable. We believe a new round of structural reforms will encourage streamlining government functions and administration, improve administrative efficiency, and create greater room for tax and administrative fee cuts.

The lower budget deficit ratio is in line with China’s push for high-quality growth. The 2018 deficit of general public budget is set at Rmb2.38trn, the same as 2017; the corresponding deficit ratio is set at 2.6%, down 0.4ppt from 2017. The lowered budget deficit ratio is in line with China’s push to move from a stage of high-speed growth to a stage of high-quality development, and will help stabilize China’s macro leverage ratio. It may also suggest that policymakers are more confident in China’s economic growth. We note that the 2018 budget deficit ratio of 2.6% implies forecasted nominal GDP growth of 10.7%, much higher than the forecasted nominal GDP growth of 6.6% implied by the 2017 ratio of 3%.

The deficit ratio covering all government revenues and expenditures is largely stable. In addition to general public budget, local governments will issue Rmb1.35trn of special bonds in 2018, up from Rmb800bn in 2017. The special bonds will be issued to finance the deficit of government-managed fund budget, which also amounts to Rmb1.35trn. Its ratio to GDP will be 1.5% in 2018 and 0.5ppt higher than in 2017. The combined deficit of general public budget and government-managed fund budget amounts to Rmb3.73trn, translating to a deficit ratio of 4.1%, slightly higher than 2017’s 4%. As the revenues and expenditures for state-owned capital operation budget and social security fund budget (the other two types of government accounts) are usually balanced, the budget deficit ratio covering all government revenue and expenditures will be largely flat with 2017.

Reserve funds may be more effectively used. In 2017, the government planned to allocate Rmb273.2bn of funds from reserves (Rmb243.3bn for general public budget and Rmb29.9bn for government-managed fund budget), but finally accumulated Rmb179.9bn of reserves (Rmb696.3bn allocated for general public budget, but Rmb876.2bn deposits from government-managed fund budget), Rmb453.1bn of distributed funds unspent. This partially explained the accumulation of fiscal deposits in 2017. According to Government Work Report, Rmb280bn of reserve funds will be allocate for general public budget in 2018, more than actually used in 2017. As the 3rd plenary session of the 19th CPC Central Committee launches a new round of structural reforms, we expect the reform of public institutions to accelerate in 2018, reining in the rapid growth of deposits held by government departments and organizations.

The government may cut more taxes and administrative fees. In 2018, the government plans to reduce taxes by over Rmb800bn for businesses and individuals and reduce non-tax burden by over Rmb300bn for market players. The proposed tax and fee cuts in 2018 total over Rmb1.1trn, exceeding 2017’s over Rmb1trn. The newly launched structural reforms will enhance the capability and standard of state governance, and improve the government’s institutional and functional structures. Reducing the number of institutions and curtailing the levels of structures will enable government to cut spending. The 2018 budget expenditure growth of 3.2% is the lowest level since the tax reform in 1994, while the budget revenue growth of 6.2% is slower than the government’s forecasted nominal GDP growth in 2018.

The new round of structural reforms offers great opportunities for tax and fee cuts. While the general budget deficit ratio is lowered in 2018, the deficit ratio covering all government accounts is largely stable. The stricter regulation of local governments’ off-balance debt may restrain the growth of infrastructure investment. A new round of structural reforms will push forward the streamlining of government functions and administration, and improve administrative efficiency, creating opportunities for better allocation of government reserves and reduction in government spending. This allows the government to further cut taxes and administrative fees without raising the deficit ratio, thereby invigorating the market and improving the quality of economic development.